The Tax Advantage of Insurance

Its tax saving season and almost everybody is thinking of reducing their tax burden by cramming in last minute investments. Cashing in on this scenario are financial companies making a splash with a plethora of tax saving products such as Infrastructure Bonds, ULIPs, and ELSS etc… At this point in time, we thought it right to give an insight into insurance policies and the tax advantages they offer. So apart from the risk cover your policy offers you, you could utilize them to save some tax too.

Insurance- An Effective Tax Planning Tool

Though there are various investments and modes by which tax payers could reduce their tax burden, insurance policies could be considered as one of the most effective tax planning tool. So whether it is a life insurance policy or a pension plan, apart from the risk cover offered, they promote long term savings plus the added advantage of reducing ones tax. So how does this happen? The Income Tax Act prescribes certain deductions under various sections for tax payers across slabs.

Here is a quick look at them.

Provisions under Various Sections-Deductions

Section 80C- Provides deductions on the premiums paid towards life insurance policies. The permissible deduction is restricted to Rs. 1, 00,000. The amount of premium however should not exceed 20% of the policy sum assured.

Section 80D- Premiums paid towards medical insurance, for self, spouse, parents and dependent children are eligible for a tax deduction of up to Rs. 15,000. An additional amount of up to Rs. 15,000 is available for parents. In case of individuals aged 65 years and above, at any time during the financial year in which the premiums were paid, a higher amount of up to Rs.20, 000 is permissible.

Section 80DD- This section is for premiums paid towards disabled dependent. A deduction of up to 50, 000 every year is permissible. A higher deduction of Rs. 75,000 shall be allowed, for dependents with severe disability.

Income Tax Exemptions-Section 10(10D)

Any sum received under a life insurance policy, including any bonus, will be exempt from tax. This exemption however is not applicable to:

Any sum received under Section 80DD(3)

A sum received under a Keyman Insurance Policy

Any sum received other than as death benefit under an insurance policy which has been issued on or after April 1 2003 and if the premium paid in any of the years during the term of the policy is more than 20% of the sum assured.

Insurance is Primarily for Risk Cover

Often, agents sell insurance as a tax saving tool and push those policies that earn them higher commissions. They sideline the very basis of insurance which is protection and portray the plan as an investment cum tax planning tool. Such mis-selling leads to one buying a policy that may not actually be suitable, or a policy that does not cover one’s specific risks.

Of course insurance does come with tax advantages, but the mainstay of insurance is protection. It primarily provides a risk cover against unforeseen calamities. This should be the main reason why insurance is to be purchased and not for other reasons. And the tax benefits are added advantages that come along with it.

Here are a few points to keep in mind at this time of the year, before purchasing an insurance policy.

Long term perspective: Don’t be driven to purchasing a policy with your immediate tax saving need. Take a long term perspective of your finances and your requirement to cover risks.

Need evaluation: A proper need evaluation is to be done before deciding on the type and amount of cover required. Ask yourself “Does the policy cover your specific requirements and individual needs?”

Servicing of premiums: The basis to decide on the premium should not be only to save tax. If you are going in for high premiums, ensure you would be able to service them now and in the future too, or else the policy could lapse.

Lock-in period and other terms and conditions: Before you purchase your policy, be aware of the lock-in period, terms and conditions of the policy. Tax saving policies is aimed to encourage long term savings and generally have a stipulated lock in period. Have clarity on what the fine print reads.

And finally… insurance is not an investment, so don’t expect to generate a profit or return from it always.